Bank interest on savings right now is little better than hiding it under your mattress.

Photo: Karl Hilzinger

But this is not permission to spend it either. You see, while deposit rates are rock bottom, lending rates remain intransigently high … and indeed, variable home loan rates are even creeping up.

That means opportunity, the opportunity to chunk off debt and save on interest – for free.

Say you get the average 2016-17 tax refund of $2602, and you also roll over from month-to-month the average credit card balance of $4400, on the average card charging 17.06 per cent (it pains me to even type that rate, let alone pay it).

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Better still, because you’ve not earned, but saved this money, you’ll pay no tax on it. That’s why debt reduction is just so powerful: for a higher rate taxpayer to equal the 17.06 per cent ‘return’ from repaying their credit card, via some investment, it would have to make a whopping 32 per cent.

If you opt for the credit card, you’ll also clear it seven months earlier.

On the other hand, you’ll be positively punished if you file your tax refund in the typical savings account, earning seven times less money. The average rate now sits at a paltry 1.79 per cent, which would deliver a return of just $48 in the coming year.

What of that other freedom-sapping debt: your mortgage? Mathematically speaking, using your bonus bucks to ditch a bit is good, but not as good as clearing credit card debt if you have any.

If you funnel the average tax refund onto a $300,000 mortgage, you’d save $230 in interest over the coming year, Mozo calculates – or two-thirds as much as if you’d chosen the credit card.

Over the life of a typical 30-year loan, the numbers are more impressive: an interest saving of $6895 and a time saving of six months.

As Peter Marshall, head of research at Mozo, puts it: “Nearly one million Australian mortgage holders are now experiencing mortgage stress across the country. Plenty of big lenders have already lifted their variable home loan rates, which is only likely to make this trend worse.

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“Using your tax refund as an extra repayment is a great strategy to build up a bit of a buffer within your mortgage when interest rates inevitably rise.”

This goes doubly if you are likely to be caught in the interest-only onslaught – or should that be offslaught? – that I wrote about two weeks ago. More than 1 million Aussie households are coming off interest-only loans in the next four years, and will be forced onto more expensive principal-and-interest repayments. This leap could be 63 per cent, and push some families over a financial cliff.

Getting ahead now could instead allow you to reduce your repayments to a level that covers the lower outstanding loan.

Beyond debt

But what to do if you’ve diligently dumped all debt and/or if you need to park the cash somewhere safe for a shorter period of time?

Term deposit rates are well above at-call savings accounts and expected to rise even further as banks sniff out cheaper domestic sources of funding in response to a cost-spike overseas.

You can get an average of 2.52 per cent for one year, which would see you better off to the tune of $66, almost a third more than an at-call account.

However, investing is a potentially higher-return option than any savings account … provided you can do so for the longer term and afford to take risk with the money.

Trying your hand at a low-cost exchange traded fund – a passive fund that simply mirrors the returns of a sector or sharemarket part or whole – with an average return of 9.21 per cent could deliver $288 (based on the five-year average annual total return of an Australian Shares S&P/ASX 300 index fund).

Meanwhile, investing in your future by stashing your tax refund in a superannuation account with an average return of 6.5 per cent (the 10-year annualised result from one of Australia’s best industry funds), will produce an annual return of $228.

Carefully weigh what you do with this year’s windfall. It could give you a far bigger bottom-line boost.

Nicole Pedersen-McKinnon is a financial educator who delivers Smart Money Start in high schools around Australia.